C&F Financial Corporation — 2018 Form 10-K Summary
Business context and reporting period
For the fiscal year ended December 31, 2018. C&F Financial is a Virginia bank holding company operating through retail banking, mortgage banking and consumer finance. The Bank operates 25 Virginia branches; mortgage and consumer lending extend into additional states. Results are annual, not solely fourth-quarter results.
Financial performance and condition
- Earnings: Net income was $18.0 million, or $5.15 per diluted share, versus $6.6 million, or $1.88 per diluted share, in 2017. Pretax income rose to $22.5 million from $18.0 million. The 2017 result included a $6.6 million one-time tax expense to remeasure deferred taxes after the federal tax-rate reduction; excluding it, 2017 adjusted net income was $13.2 million ($3.79 per diluted share).
- Revenue and margin: Interest income was $92.5 million and noninterest income was $25.8 million, compared with $89.6 million and $27.2 million, respectively, in 2017. Net interest income was $81.5 million, up from $80.0 million; on a taxable-equivalent basis it was $82.3 million. Net interest margin narrowed to 5.80% from 5.99%, as asset yields declined and funding costs increased.
- Expenses and credit costs: Noninterest expense rose 1.2% to $73.7 million. Provision for loan losses fell to $11.0 million from $16.4 million, mainly reflecting improved consumer finance credit performance. Net charge-offs were $12.7 million, down from $17.8 million.
- Cash flow: Operating activities provided $47.1 million; investing activities used $47.5 million; financing activities used $4.0 million. Cash and cash equivalents declined $4.4 million to $115.0 million.
- Balance sheet and liquidity: Total assets were $1.52 billion, loans net of allowance were $1.03 billion, and deposits were $1.18 billion. Shareholders’ equity was $152.0 million, up from $141.7 million. Liquid assets totaled $220.1 million, with $292.7 million of available borrowing capacity reported. Total borrowings, including trust preferred notes, were approximately $159.7 million.
- Capital and shareholder returns: The Bank was classified as well capitalized. Its total risk-based capital ratio was 15.1% and Tier 1 leverage ratio was 11.2%. The Corporation reported a $1.41 per-share dividend declared for 2018 and $1.1 million of share repurchases; $3.9 million remained authorized under the buyback program at year-end.
Material changes versus 2017
- Net income increased substantially, but the comparison is distorted by the 2017 one-time deferred-tax remeasurement. Against adjusted 2017 net income of $13.2 million, 2018 earnings were higher.
- Retail banking net income rose to $10.6 million from $5.0 million; mortgage banking net income rose to $1.9 million from $1.0 million; consumer finance net income rose to $6.7 million from $2.3 million. All three segments benefited from the lower federal tax rate; consumer finance also had lower credit-loss provision.
- Loans held for investment increased to $1.06 billion from $1.03 billion, driven mainly by commercial and construction lending. Nonperforming assets in retail banking fell to $1.7 million from $5.4 million, largely after resolution of one commercial relationship.
- Mortgage originations declined 6.1%; gains on loan sales fell to $7.8 million from $8.6 million. Consumer finance added prime marine and RV lending in 2018; its automobile net charge-off ratio improved to 4.14% from 5.82%.
- Accumulated other comprehensive loss widened to $4.7 million from $1.9 million, principally reflecting unrealized securities losses and pension-related changes.
Outlook, risks and unusual items
- Management expected 2019 loan growth, supported by a new Richmond commercial lending team, but cautioned that the net interest margin may be difficult to maintain. Factors include deposit competition, higher borrowing costs and lower accretion from acquired-credit fair-value adjustments.
- Mortgage profitability faces lower industry production, pricing pressure, higher rates that may weaken demand, and ongoing personnel, compliance and technology costs. Consumer finance growth may remain challenging amid aggressive auto-loan competition; marine and RV loans are lower-yielding but expected to have lower credit losses.
- Key exposures include interest-rate and margin risk, commercial real estate and construction concentrations, non-prime auto credit and used-vehicle collateral values, mortgage investor repurchase/indemnification claims, deposit competition, cybersecurity and third-party service-provider risks.
- At December 31, 2018, commercial, financial and agricultural loans represented about 43% of the loan portfolio; consumer finance loans represented about 27%. The consumer finance allowance was $23.0 million, or 7.77% of that segment’s loans.
- Management had not estimated the impact of the expected-credit-loss standard (ASC 326), scheduled for adoption in 2020; it could change the allowance, retained earnings and Bank regulatory capital. Lease accounting adoption in 2019 was expected to recognize about $3 million in lease liabilities and corresponding right-of-use assets.
- Unused loan commitments were $244.2 million and standby letters of credit were $19.3 million. Mortgage loan-sale agreements include representations and warranties; the indemnification allowance was $2.5 million, with no payments in 2018 or 2017. Management said ordinary-course litigation was not expected to have a material adverse effect.
- Leadership changed in January 2019: Thomas F. Cherry became CEO, while Larry G. Dillon became Executive Chairman. Independent auditors issued unqualified opinions on the financial statements and internal control over financial reporting.
Most important facts for investors to verify
- Reconcile reported 2017 earnings with the $6.6 million tax remeasurement and compare 2018 with adjusted, rather than only reported, 2017 results.
- Track net interest margin, deposit pricing and the sensitivity of consumer finance funding costs to short-term rates.
- Review credit trends in commercial real estate/construction and non-prime auto lending, including charge-offs, delinquencies, repossessions and allowance adequacy.
- Assess the sustainability of mortgage production and gains on loan sales, and monitor any investor repurchase or indemnification claims.
- Confirm the effect of ASC 326 on the allowance, earnings and Bank capital when management completes its implementation estimate.
- Monitor capital, liquidity, dividend capacity and repurchases, including the Bank’s ability to upstream dividends to the holding company.